Liberty. It’s a simple idea, but it’s also the linchpin of a complex system of values and practices: justice, prosperity, responsibility, toleration, cooperation, and peace. Many people believe that liberty is the core political value of modern civilization itself, the one that gives substance and form to all the other values of social life. They’re called libertarians.

Friday, June 8, 2012

Europe’s Last Chance to Save Itself

Illustration by Bloomberg View

By
the Editors

Europe’s economic catastrophe is
unfolding so slowly that it has come to seem like business as
usual.
For some analysts, the optimistic scenario -- yes,
optimistic -- now requires a Lehman-style financial collapse
provoked by a Greek exit from the euro system. Nothing less,
they reason, will get European Union governments to act. How’s
that for a vote of confidence in politicians?

Whatever happens after the June 17 Greek election, an even
greater calamity than a Greek euro-exit threatens Spain, a much
bigger economy whose collapse would be far harder to manage. The
danger is imminent. Spain’s borrowing costs have risen almost to
the level that signals insolvency, and its banking system is
crumbling. If the rot can’t be stopped there, Europe’s prospects
are grim.
At the summit planned for the end of this month, Europe’s
leaders need to aim higher than their default strategy of “do
nothing, see what happens.” Two new proposals are being
discussed: a “banking union” to shore up the EU’s beleaguered
financial system and a “redemption pact” to guarantee the
solvency of Europe’s debt-stressed governments. Although neither
plan would completely fix the problems, both are worth pursuing.

Unified Approach

The banking union idea calls for a single euro-area
approach to financial regulation, a jointly backed deposit-
guarantee plan and a collectively supported system for
recapitalizing distressed banks. This makes sense because
adopting the single currency has erased the borders separating
national financial systems. Stress in one country is instantly
transmitted to others. A completely integrated financial market
requires a unified approach to regulation and support.
However, shoring up distressed financial systems requires
public money -- and that’s contentious. Spain is seeking
collective deposit insurance and bank recapitalizations mainly
because it no longer has the money to act on its own. Germany
balks at open-ended support for such initiatives, a posture that
risks its well-being, not just its partners’. Yet a summit
compromise looks possible. It would involve steps toward banking
union plus limited collective backing through an enlarged
European Stability Mechanism, which is now underfunded. This
would be less than ideal, but better than nothing.
The redemption pact confronts the overarching question of
government insolvency head-on. The idea is to roll national
sovereign debts above 60 percent of gross domestic product into
a jointly guaranteed fund. Thanks to risk-pooling, the
refinancing cost would be lower than prevailing rates for
distressed borrowers (and higher for the creditworthy).
Governments would promise not to raise their remaining debts
above the 60 percent ceiling. They would also make binding
deposits into the fund such that it would dissolve after 20 to
25 years. One method of enforcing the pact would require
countries to post collateral in the form of foreign-exchange
reserves.
The good thing is that the plan is a stride toward issuing
euro bonds, a move we have advocated for the last year and which
German Chancellor Angela Merkel continues to rule out. She also
wanted nothing to do with the redemption pact when it was first
floated, perhaps suspecting it was euro bonds by stealth (which
it is). She has softened that line and hopes are rising for
another possible compromise.
Unfortunately, the main drawbacks of the redemption pact
are the very features that commend it to Merkel: It’s designed
to be temporary, but the euro area needs a lasting fiscal
repair. It would work through compulsion and penalties, raising
questions of democratic legitimacy, rather than by creating
incentives for good fiscal conduct.

Right Direction

Under threat of tough penalties, the pact imposes severe
austerity for decades on countries such as Italy. Even if that
were desirable -- we think it’s too harsh -- it’s just not
credible. The EU needs to break the habit of making promises
nobody expects to be kept.
Still, the plan is a step in the right direction. If the
summit can accept the principle of debt mutualization, however
constrained and convoluted, financial markets will be reassured,
and that’s the first order of business.
Meanwhile, the European Central Bank should be doing more.
On Wednesday, it left its benchmark interest rateunchanged at 1
percent and continues to frown on quantitative easing of the
sort conducted by the U.S. Federal Reserve, all despite signs
that the euro area’s slowdown is worsening. The ECB can’t fill
the policy vacuum, as its president, Mario Draghi, said last
week, but that’s not the point. Further monetary stimulus is
perfectly feasible and would help.
Europe has vacillated long enough. It needs to act before
the full cost of its paralysis comes due, and the June 28-29
summit may be its last chance.
Read more opinion online from Bloomberg View. Subscribe to
receive a daily e-mail highlighting new View columns, editorials
and op-ed articles.